Minutes of the CNB Board Meeting on 22 January 1998

The Board classified numerous signals indicating that demand growth deceleration would continue. Private consumption would be formed by decreasing growth in average wages, particularly in the public sector. Rising unemployment would prevent wages from accelerating. An opinion was expressed that unemployment, together with other uncertainties, would avert a fall in savings. Investment demand corresponded to the level of interest rates and would be affected to a greater extent by prudential behaviour of the banking sector in granting new credits.

The discussion focused on the problem of whether the unfavourable development of the trade deficit in November and December had not meant a change in the trend which could have led to the reappearance of the external imbalance. The January data on the balance of trade were not available at the time of the Board meeting. The trade deficit for December amounting to approx. CZK 17 bn was unexpectedly unfavourable. There was uncertainty about the impact of demand deceleration on the current account. Consequently, there was no agreement on whether a decline in monthly deficits could be expected in 1998. It was stated that the pace of economic restructuring was not sufficient. In addition, the high share of investment in the infrastructure during recent years did not directly increase the potential product or export capacity of the country. The export potential was mainly increased by a narrow segment of the restructured part of the economy, e.g. the automobile industry. With regard to Asian events, economic growth in OECD countries was also identified as a source of uncertainty. The Board also considered a hypothesis, according to which the change in the balance of trade had the character of a short-term deviation due to seasonal factors and creating stocks of imported goods in advance.

The Board evaluated the adequacy of interest rate levels from the point of view of financial market development. The consequences of the Asian crisis could result in the reassessment of the Czech economy's risk premium by foreign investors. For this reason, any easing of monetary policy would be risky. In addition, the November and December trade deficits were regarded as a potential impulse for weakening the exchange rate. At the same time, it was stated that the growth in foreign credits would probably not affect the exchange rate significantly, because a considerable portion of these credits was linked to export activities.

The reaction of the financial markets to short-term fiscal development was discussed next. The Board identified two potential impulses for weakening of the exchange rate: the higher-than-expected 1997 state budget deficit and the gradual publishing of a hidden public debt. However, from a longer-term point of view, the improved transparency of public finance was viewed as a very favourable factor.

Despite numerous uncertainties, estimates of future inflation were in compliance with the inflation target. The data on January inflation were not yet available. December data on prices and demand signalled moderation of the expected growth in industrial producer prices. At the same time, it was stated that this favourable outlook could be threatened by the effects of January re-pricing. The anticipated influence of an increase in the pace of deregulation did not pose any threat to meeting the inflation target, although it was evident that in the first months of 1998, net inflation would increase.

The Board identified as one of the uncertainties of the decision-making process the longer-term development of the external imbalance. In view of the fact that the accumulated external imbalance was quite extensive, it was not clear whether the correction in the economic policy in the preceding period was sufficient and whether the current account developments at the end of 1997 did not call for further corrections.

At its January meeting, the Board for the first time made decisions on interest rate setting within the framework of inflation targeting. Available information did not signal that a change in rates was necessary. The repo rate remained at 14.75%. The Board also decided to lower the Lombard rate from 23% to 19% (effective 23 January). This technical measure was aimed at reducing the volatility of short-term interest rates.